Non-Traded REITS
Non-Traded REITS have been the subject of quite a bit of controversy over the past few years, not the least of which has been the recent announcement by one large organization about accounting concerns. In recent years, FINRA has focused both its examination and rule making resources on the sellers of these products. Earlier this year, FINRA announced significant enforcement actions against two large sellers of non-traded REIT products. Additionally, FINRA has proposed changes to the requirements affecting how positions in non-traded REITS are valued on customer statements. Mitch Atkins, FINRA’s former South Region Director, has extensive experience with the compliance issues that are unique to these products. Here, he discusses some of the key issues he has observed both as a regulator and a consultant to broker-dealers.
Non-Traded REITS are not inherently bad products. Unfortunately, there are some sellers of the products that have recommended the products to clients who, under FINRA rules, were unsuitable purchasers. Further, there have been instances in which sellers have misrepresented the products in their advertising and sales literature, or in direct communications with clients. This may have prompted FINRA to conduct its spot-check of non-traded REIT advertising and to issue a Regulatory Notice addressing the issue of REIT advertising.
Whatever the issue, it seems that sales of these products is continuing to grow, with many broker-dealers seeing significant increases in revenues over the last few years. This has a lot to do with the current market environment, interest rates and customer desire for higher returns.
There are several practices which seem to make a difference in the success or failure of a non-traded REIT compliance program. The first is an effective due diligence approach. Prior to permitting the sale of a non-traded REIT product, broker-dealers should conduct thorough due diligence. And following approval, ongoing due diligence is a must. Material events that could change the initial due diligence decision should be addressed by the broker-dealer and appropriate actions taken. The second key to an effective non-traded 
REIT compliance program is a supervisory system covering the suitability of sales of the product to customers. Most firms (and states for that matter) limit the amount of a client’s liquid net worth that may be invested in non-traded REITs. This threshold varies, as does the suitability standard imposed by each state on a particular product. But generally, firms and states limit the percentage of a client’s liquid net worth that may be invested in a single non-traded REIT to 10 percent.
An effective suitability review process is critical to preventing inappropriate sales to clients. The third key to compliance when selling these products is a thorough and effective advertising and sales literature review process. A simple review of the recent FINRA disciplinary actions yields plenty of information on what not to do in this space. The most important of which seems to be adequacy of disclosure and taking care not to misrepresent the illiquidity of the product. Finally, an effective training program for these products is a must. Many broker-dealers require their salespersons to complete an online training module for each product sold as well as general modules about the features of non-traded REITs. These online modules are easy to administer and cost-effective. It is important to note that broker-dealers must also train the principals who are responsible for supervising the sales staff in the features of the products it sells.
Mitch Atkins, FINRA’s former Senior Vice President and Regional Director, has extensive experience in non-traded REIT compliance. To speak with Mitch Atkins, call FirstMark Regulatory Solutions at 561-948-6511.